Edmonds 5e Chapter 11 TB Answer Key PDF

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Survey of Accounting, 5e (Edmonds) Chapter 11 Cost Behavior, Operating Leverage, and Profitability Analysis 1) Java Joe operates a chain of coffee shops. The company pays rent of $20,000 per year for each shop. Supplies (napkins, bags and condiments) are purchased as needed. The manager of each shop is paid a salary of $3,000 per month, and all other employees are paid on an hourly basis. Relative to the number of customers for a shop, the cost of supplies is which kind of cost? A) Fixed cost B) Variable cost C) Mixed cost D) Relevant cost Answer: B Explanation: When the volume increases, the total cost of supplies increases; when volume decreases, the total decreases; as such, the cost of supplies is a variable cost. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

2) Select the correct statement regarding fixed costs. A) Because they do not change, fixed costs should be ignored in decision making. B) The fixed cost per unit decreases when volume increases. C) The fixed cost per unit increases when volume increases. D) The fixed cost per unit does not change when volume decreases. Answer: B Explanation: The total amount of a fixed cost does not change when volume changes. In contrast, fixed cost per unit is not fixed. It changes as the volume changes. The fixed cost per unit decreases when volume increases and the fixed cost per unit increases when volume decreases. Difficulty: 1 Easy Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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3) Larry's Lawn Care incurs significant gasoline costs. This cost would be classified as a variable cost if the total gasoline cost: A) varies inversely with the number of hours the lawn equipment is operated. B) is not affected by the number of hours the lawn equipment is operated. C) increases in direct proportion to the number of hours the lawn equipment is operated. D) none of the above. Answer: C Explanation: The gasoline cost would be classified as variable if the total gasoline cost increases when the volume increases and the total gasoline cost decreases when the volume decreases. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

4) Select the correct statement regarding fixed costs. A) There is a contradiction between the term "fixed cost per unit" and the behavior pattern implied by the term. B) Fixed cost per unit is not fixed. C) Total fixed cost remains constant when volume changes. D) All of these are correct statements. Answer: D Explanation: The total amount of a fixed cost does not change when volume changes. In contrast, fixed cost per unit is not fixed. It changes as the volume changes. The fixed cost per unit decreases when volume increases and the fixed cost per unit increases when volume decreases. Difficulty: 1 Easy Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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5) Rock Creek Bottling Company pays its production manager a salary of $6,000 per month. Salespersons are paid strictly on commission, at $1.50 for each case of product sold. For Rock Creek Bottling Company, the production manager's salary is an example of: A) a variable cost. B) a mixed cost. C) a fixed cost. D) none of these Answer: C Explanation: The total amount of a fixed cost does not change when volume changes. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

6) Rock Creek Bottling Company pays its production manager a salary of $6,000 per month. Salespersons are paid strictly on commission, at $1.50 for each case of product sold. For Rock Creek Bottling Company, the cost of the salespersons' commissions is an example of: A) a fixed cost. B) a variable cost. C) a mixed cost. D) none of these Answer: B Explanation: Since the salespersons are paid strictly on commission, at $1.50 for each case of product sold, the total cost of the salespersons' commissions would increase as the sales volume increases. As such, this cost would be classified as a variable cost. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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7) Based on the following cost data, what conclusions can you make about the costs of Product A and Product B? Total Cost Production: 10 units 100 units 1,000 units

Product A $ 100 $ 1,000 $ 10,000

Product B ? ? ? Unit Cost

Production: 10 units 100 units 1,000 units

Product A ? ? ?

Product B $ 10,000 $ 1,000 $ 100

A) The cost of Product A is a fixed cost and the cost of Product B is a variable cost. B) The cost of Product A is a variable cost and the cost of Product B is a fixed cost. C) The costs of Product A and Product B are both variable costs. D) The costs of Product A and Product B are both mixed costs. Answer: B Explanation: When the volume increases, the total cost of Product A increases; as such, the cost of Product A is a variable cost. The fixed cost per unit of Product B decreases when volume increases; as such, the cost of Product B is a fixed cost. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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8) Based on the following cost data, items labeled (a) and (b) in the table below are which of the following amounts, respectively? Number of units: Total cost: Variable Fixed Cost per unit: Variable Fixed

1,500

3,000

$ 7,500 $ 6,000

$ 15,000 $ 6,000

$ $

5 4

(a) (b)

A) (a) = $3.00; (b) = $3.00 B) (a) = $5.00; (b) = $4.00 C) (a) = $2.50; (b) = $2.00 D) (a) = $5.00; (b) = $2.00 Answer: D Explanation: (a) Total cost of $15,000 ÷ 3,000 units = $5 per unit (b) Total cost of $6,000 ÷ 3,000 units = $2 per unit Difficulty: 3 Hard Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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9) Two different costs incurred by Ruiz Company exhibit the following behavior pattern per unit: Units Sold Cost #1 Cost #2

50 $ 300 $ 2

100 per unit $ 150 per unit $ 2

150 200 per unit $ 100 per unit $ 75 per unit per unit $ 2 per unit $ 2 per unit

Cost #1 and Cost #2 exhibit which of the following cost behavior patterns, respectively? A) Fixed and variable B) Variable and variable C) Fixed and fixed D) Variable and fixed Answer: A Explanation: The cost per unit of Cost #1 decreases when volume increases; as such, Cost #1 is a fixed cost. When the volume increases, the cost per unit of Cost #2 stays the same; as such, Cost #2 is a variable cost. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

10) Wu Company incurred $40,000 of fixed cost and $50,000 of variable cost when 4,000 units of product were made and sold. If the company's volume doubles, the total cost per unit will: A) stay the same. B) decrease. C) double as well. D) increase but will not double. Answer: B Explanation: Current cost per unit: Total cost per unit = (Fixed cost + Variable cost) ÷ Number of units Total cost per unit = ($40,000 + $50,000) ÷ 4,000 units = $22.50 per unit Cost per unit when volume doubles: Total cost per unit = [$40,000 + ($50,000 × 2)] ÷ (4,000 units × 2) = $17.50 per unit Difficulty: 3 Hard Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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11) Wu Company incurred $40,000 of fixed cost and $50,000 of variable cost when 4,000 units of product were made and sold. If the company's volume increases to 5,000 units, the total cost per unit will be: A) $18.00. B) $20.00. C) $20.50. D) $22.50. Answer: C Explanation: Variable cost per unit = Total variable cost ÷ Number of units Variable cost per unit = $50,000 ÷ 4,000 units = $12.50 per unit Total cost per unit = Fixed cost per unit + Variable cost per unit Total cost per unit = ($40,000 ÷ 5,000 units) + $12.50 per unit = $20.50 per unit Difficulty: 3 Hard Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

12) Wu Company incurred $40,000 of fixed cost and $50,000 of variable cost when 4,000 units of product were made and sold. If the company's volume increases to 5,000 units, the company's total costs will be: A) $100,000 B) $90,000 C) $102,500 D) $80,000 Answer: C Explanation: Variable cost per unit = Total variable cost ÷ Number of units Variable cost per unit = $50,000 ÷ 4,000 units = $12.50 per unit Total cost = Fixed cost + Variable cost Total cost = $40,000 + ($12.50 per unit × 5,000 units) = $102,500 Difficulty: 3 Hard Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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13) If the company's volume doubles, the company's total cost will: A) stay the same. B) double as well. C) increase but will not double. D) decrease. Answer: C Explanation: Current cost: Total cost = Fixed cost + Variable cost Total cost = $40,000 + $50,000 = $90,000 Cost per unit when volume doubles: Total cost = $40,000 + ($50,000 × 2) = $140,000 Difficulty: 3 Hard Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

14) Pickard Company pays its sales staff a base salary of $4,500 a month plus a $3.00 commission for each product sold. If a salesperson sells 800 units of product in January, the employee would be paid: A) $6,900 B) $4,500 C) $2,300 D) $2,700 Answer: A Explanation: Total cost = Fixed cost + Variable cost Total cost = $4,500 + (800 units × $3.00 per unit) = $6,900 Difficulty: 3 Hard Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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15) Fixed cost per unit: A) decreases as production volume decreases. B) is not affected by changes in the production volume. C) decreases as production volume increases. D) increases as production volume increases. Answer: C Explanation: The total amount of a fixed cost does not change when volume changes. In contrast, fixed cost per unit is not fixed. It changes as the volume changes. The fixed cost per unit decreases when volume increases and the fixed cost per unit increases when volume decreases. Difficulty: 1 Easy Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

16) Cool Runnings operates a chain of frozen yogurt shops. The company pays $5,000 of rent expense per month for each shop. The managers of each shop are paid a salary of $3,000 per month and all other employees are paid on an hourly basis. Relative to the number of shops, the cost of rent is which kind of cost? A) Variable cost B) Fixed cost C) Mixed cost D) Opportunity cost Answer: A Explanation: The behavior pattern of a particular cost may be either fixed or variable, depending on the context. In this context, the total cost of rent increases proportionately with the number of shops while cost per shop remains constant. The rent is therefore variable relative to the number of shops. Difficulty: 2 Medium Topic: Fixed Cost Behavior Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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17) Companies A and B are in the same industry and are identical except for cost structure. At a volume of 50,000 units, the companies have equal net incomes. At 60,000 units, Company A's net income would be substantially higher than B's. Based on this information, A) Company A's cost structure has more variable costs than B's. B) Company A's cost structure has higher fixed costs than B's. C) Company B's cost structure has higher fixed costs than A's. D) At a volume of 50,000 units, Company A's magnitude of operating leverage was lower than B's. Answer: B Explanation: When sales change, the amount of the corresponding change in net income is directly influenced by the company's cost structure. The more fixed cost, the greater the fluctuation in net income. Since Company A's net income is substantially higher than Company B's when both companies experience an equal increase in sales, Company A has a fixed cost structure while Company B has a variable cost structure. Difficulty: 2 Medium Topic: An Income Statement under the Contribution Margin Approach Learning Objective: 11-03 Prepare an income statement using the contribution margin approach. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

18) Operating leverage exists when: A) a company utilizes debt to finance its assets. B) management buys enough of the company's shares of stock to take control of the corporation. C) the organization makes purchases on credit instead of paying cash. D) small percentage changes in revenue produce large percentage changes in profit. Answer: D Explanation: Operating leverage is the cost structure condition that produces a proportionately larger percentage change in net income for a given percentage change in revenue. Business managers apply operating leverage to magnify small changes in revenue into dramatic changes in profitability. Difficulty: 1 Easy Topic: Operating Leverage Learning Objective: 11-02 Demonstrate the effects of operating leverage on profitability. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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19) For the last two years BRC Company had net income as follows: Net Income

Year 1 $160,000

Year 2 $200,000

What was the percentage change in income from Year 1 to Year 2? A) 20% increase B) 20% decrease C) 25% increase D) 25% decrease Answer: C Explanation: % change = (Alternative measure – Base measure) ÷ Base measure % change = ($200,000 − $160,000) ÷ $160,000 = 25% Difficulty: 3 Hard Topic: Operating Leverage Learning Objective: 11-02 Demonstrate the effects of operating leverage on profitability. Bloom's: Apply AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

20) Select the incorrect statement regarding the relationship between cost behavior and profits. A) A pure variable cost structure offers higher potential rewards. B) A pure fixed cost structure offers more security if volume expectations are not achieved. C) In a pure variable cost structure, when revenue increases by $1, so do profits. D) In a pure fixed cost structure, the unit selling price and unit contribution margin are equal. Answer: D Explanation: Recall that contribution margin equals sales revenue minus variable costs. As such, in a pure fixed cost structure, because variable costs are zero, the unit selling price equals the unit contribution margin. Shifting the cost structure from fixed to variable reduces not only the level of risk but also the potential for profits. Difficulty: 2 Medium Topic: Fixed Cost Behavior; Calculating Percentage Change; Measuring Operating Leverage Using Contribution Margin Approach Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior.; 11-02 Demonstrate the effects of operating leverage on profitability.; 11-04 Calculate the magnitude of operating leverage. Bloom's: Understand AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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21) Select the correct statement from the following. A) A fixed cost structure offers less risk (i.e., less earnings volatility) and higher opportunity for profitability than does a variable cost structure. B) A variable cost structure offers less risk and higher opportunity for profitability than does a fixed cost structure. C) A fixed cost structure offers greater risk but higher opportunity for profitability than does a variable cost structure. D) A variable cost structure offers greater risk but higher opportunity for profitability than does a fixed cost structure. Answer: C Explanation: Shifting the cost structure from fixed to variable reduces not only the level of risk but also the potential for profits. Difficulty: 1 Easy Topic: Fixed Cost Behavior; Operating Leverage Learning Objective: 11-01 Identify and describe fixed, variable, and mixed cost behavior.; 11-02 Demonstrate the effects of operating leverage on profitability. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

22) The manager of Kenton Company stated that 45% of its total costs were fixed. The manager was describing the company's: A) operating leverage. B) contribution margin. C) cost structure. D) cost averaging. Answer: C Difficulty: 1 Easy Topic: Operating Leverage Learning Objective: 11-02 Demonstrate the effects of operating leverage on profitability. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

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23) Select the incorrect statement regarding cost structures. A) Highly leveraged companies will experience greater profits than companies less leveraged when sales increase. B) The more variable cost, the higher the fluctuation in income as sales fluctuate. C) When sales change, the amount of the corresponding change in income is affected by the company's cost structure. D) Faced with significant uncertainty about future revenues, a low leverage cost structure is preferable to a high leverage cost structure. Answer: B Explanation: Shifting the cost structure from fixed to variable reduces not only the level of risk but also the potential for profits. As a result, the more variable cost, the lower the fluctuation in income as sales fluctuate. Difficulty: 1 Easy Topic: Operating Leverage Learning Objective: 11-02 Demonstrate the effects of operating leverage on profitability. Bloom's: Remember AACSB: Knowledge Application AICPA: BB Industry; FN Decision Making

24) Based on the income statements shown below, which division has the cost structure with the highest operating leverage?

Revenue Variable costs Contribution margin Fixed costs Net income

Soft Drinks $ 50,000 (10,000 ) 40,000 (30,000 ) ...